Dreams, these days, come with a high price tag. A car for Rs 5 lakh, a house for Rs 50 lakh, several lakhs for a decent education for kids and crores for a cushy retirement. In fact, seemingly simple needs have been elevated to dreams due to the high cost associated with them. You require either a large income or a strategic plan to meet these basic life goals. While the former may not always be easy for the average salaried person, the latter is certainly within reach, especially if you begin at the beginning. Make a financial plan the day you start working and you won’t have to scramble to fund each aspiration.

However, it may not be as easy as it seems. “I just don’t know how much to save and where to invest, so I don’t budget and end up spending a lot,” says Harshinder Kaur, who started working two years ago as a probationary officer at a bank in Ganganagar, Rajasthan. She doesn’t know how to formulate a plan for herself. This is a predicament many youngsters in their mid-20s face. The twin behavioural devils of ignorance and procrastination push most people into their 30s before they get down to streamlining their finances. This often results in faulty investment choices, flawed portfolios, unmet goals and financial insecurity later in life.

“This category is not a cash cow for advisory firms, and as they have no one to turn to, they often get lost,” says Jayant Pai, CFP and Head, Marketing, PPFAS Mutual Fund. We, at ET Wealth, will try to remedy this through our cover story this week. In the following pages, we offer the newly employed youth a step by step guide to plan their finances. We focus on the building blocks they need at this stage: budgeting, goals, investment, insurance, taxation and salary structure. However, this is merely intended to propel them into planning and they will need to research and learn continuously throughout their working lives. Remember, financial freedom is not achieved the day you start working, but the day you get your finances in working order.

1. MAKE A BUDGET & START SAVINGBudgeting is the simple exercise of reconciling your income with your expenses, and should be your first step. Note down your monthly spending as per your ease of usage: Excel sheet, simple diary, mobile app, or desktop. The aim is to know how much you spend under various heads. “I use Excel sheet to keep track of my spending and know what percentage of my salary goes where,” says 24-year-old Saugata Palit, who has been working as senior executive in a private firm in Delhi for the past 18 months.

After you have budgeted for 3-4 months, you will realise that your expenses can be sorted into three categories: essential, discretionary and entertainment. “Tracking of budget is important not only to identify mandatory and discretionary spends, but also ensure that you don’t overspend,” says Vinit Iyer, CFP & Founder, Wealth Creators Financial Advisors.

Once you’ve identified the outgoing amount, put away 10-20% of your salary every month before you start spending. If you don’t know where to put it, start with your bank account. Try to opt for a sweep-in account that has a fixed deposit linked to it as it will fetch you a rate higher than 4%, which you get from your savings account. This will help inculcate a lifelong saving habit and make sure that you money starts to work for you immediately.

As financial planner Pankaaj Maalde says, “It’s important that your money does not lie idle.” This is because with very few liabilities and responsibilities, this is the ideal period to save and take advantage of the power of compounding. The earlier you start saving, even if it is a small amount, the more time your money will have to grow.

Even as you start saving, another first is to start educating yourself about every aspect of personal finance. “Read articles and books to understand concepts like saving, investing, protection, debt, inflation, compounding, etc, and how these are intertwined,” says Pai. The more informed you are, the better your decision-making.

2. FRAME YOUR FINANCIAL GOALSYou have started saving, but will you have enough to buy a house 10 years down the line, or even a car five years hence? People tend to save aggressively and invest with extreme vigour, but do so blindly, jeopardising their goals. This is a mistake common to most investors, irrespective of the age group. The next step then is to frame your goals.

Don’t just make a mental note of the things you want to finance, but write these down in detail. Split your goals into three categories: short-, medium- and long-term goals. Then list each one clearly, along with the number of years to achieve each, and the exact amount you will need. Once you have penned down your goals, you will be able to determine how much and for how long you will need to invest.

Don’t forget to factor in inflation while calculating the amount since it will shoot up the value of your goal. If you decide to buy a car that costs Rs 5 lakh today after seven years, it will cost you Rs 8.5 lakh if you consider 8% inflation. Similarly, the post-tax returns from a fixed deposit that offers 7.5% return may not be able to beat the rise in prices over the long term.

While Palit manages to save 29% of his salary each month and has also framed short-term goals, he hasn’t factored in inflation, nor the corpus he will manage to build. There are other things you need to consider while deciding goals. “The nature of your income, earning capacity in the coming years, dependants, loans and personal priorities must essentially be considered while framing goals,” says Pai.

Also remember that these milestones may alter somewhat with your changing circumstances, say, after getting married or having children. You will then have to make the necessary adjustments. If you think you cannot do so on your own, take the help of a financial adviser who takes into account your specific needs and wants.

3. INVEST IN RIGHT INSTRUMENTSThe biggest dilemma that young earners face is where to invest their money. “To start with, just choose simple instruments like a recurring or fixed deposit. Once you have prioritised your goals, then think about converting your savings to investments,” says Maalde. “If you are not familiar with instruments, pick options that are readily available, say, in a bank, and offer liquidity,” adds Iyer.

Essentially, the investment vehicle should be chosen in line with your goals and time horizon. “If it’s a short-term goal, keep it in debt; if it’s for the long term, it should be mandatorily equity,” says Kartik Jhaveri, Director, Transcend Consulting. The medium-term goals should have a mix of debt and equity. This is because debt will offer you the safety of capital since you need it in the short term, while equity has historically given the highest returns in the long term.

This is a simple generalisation, but as you have just started earning and are not familiar with the investing territory, go for it till you are better informed. Then take into consideration other factors like returns, liquidity and tax liability before choosing an asset class.

For near-term goals, opt for recurring deposit, liquid funds, fixed deposit or short-term debt funds. For the medium-term, you could choose balanced funds and equitylinked saving schemes. For the long term, equity mutual funds, NPS, PPF and EPF could be your instruments of choice.

Do not blindly take your parents’ and well-wishers’ advice, but conduct your own research. Bengaluru-based Siddhartha Nayyar, 23, is learning from experience. “I tried my hand at the stock market recently, but faced a loss. So I have backed off for now and will conduct proper research on stocks and mutual funds before trying again,” says the project coordinator with a software firm.

On the other hand, 24-year-old Dharma Teja is learning from observation. “When I saw my father’s investment go up sharply with mutual funds, I decided to opt for it and am now investing my entire surplus of Rs 45,000 in equity funds,” says the product manager with a private firm in Mumbai. He is, however, accumulating funds for short-term goals and should shift it to debt as he approaches the goal. At the other extreme is Palit, who has a 100% debt portfolio, with investments in recurring deposit, PPF and gold ETF. He should diversify into equity soon.

Which investment should you pick?Consider the goal tenure, returns, taxation and liquidity before investing your hardearned money.

4. MAXIMISE TAX SAVINGSSaving tax is not a priority for most new earners because the salary is not too high, nor the knowledge regarding taxability of instruments. “Do not be obsessed with investing just for saving tax as some expenditures may be useful,” says Pai.

However, it is important to brush up your tax awareness at the earliest. Start with avenues that offer tax deduction of Rs 1.5 lakh under Section 80C. Some of these include the EPF, PPF, NPS, 5-year tax-saving fixed deposits, ELSS, Ulips, life insurance, etc. Then opt for investments that fit in with your goals and needs, or those that are being made by default.

The latter could include EPF or the NPS. “You could also use insurance and healthcarerelated expenses for dependants astutely,” says Pai. These would include premium spent on health plans under Section 80D, which is up to Rs 25,000 for self and dependants, and Rs 30,000 for senior parents. “I only have a working knowledge of tax as it is not need of the hour for me. Still, I am saving tax through investments in the PPF and gold ETFs,” says Palit.

Another important thing is to calculate the returns from your investments after considering the tax. So Palit should undersrand that gold ETFs will invite short-term or longterm capital gains tax. You can also save tax by negotatiating with your employer for a a taxfriendly salary structure.

Siddhartha Nayyar, 23 years, BengaluruDesignation: Project CoordinatorStarted work at 21 years

“I’m open to investing in mutual funds, but want to test my learning in the stock market.”

Flying start1. Has no loans; has repaid vehicle loan.2. Pays credit card bills in full each month.3. Working knowledge of taxation on investments.

Take-off troubles1. Fully invested in debt, no equity.

2. Low savings, high expenses.3. Only employer’s health cover. No other insurance.

5. OPT FOR THE RIGHT INSURANCEThe basic purpose of insurance is to cover risks in your life, not offer returns. Still, most people confuse it with investment because of the products in the market that offer both. While you may not feel much need for any kind of cover when you are young, it’s best to know about the various types at the start of your financial life. “The lure of tax saving and the urgency to get tax planning components in place at the end of financial year can push one to make unwise choices,” says Antony Jacob, CEO, Apollo Munich Health Insurance.

Life insuranceThe term plan offers a big cover for a small premium, but you do not get any returns. Then, there are traditional plans, which include endowment and moneyback policies. These offer small covers for a high premium, and low rates of return. Finally, there are Ulips, which are marketlinked insurance plans with a lockin period of five years and provide a low cover for a high premium, but offer market-linked returns.

The last two are typically used The last two are typically used as a wealth creation tool because of returns, but remember that in case of traditional plans, the rate is low, usually 5-6%, and you can earn higher returns by investing in other instruments. Teja is paying a premium of Rs 25,000 a year for an endowment plan that was bought for him by his father even though he doesn’t need it.

At this point, the only life cover you may need is a term plan, but this too, only if you have financial dependants or large liabilities in the form of debt. Teja has a Rs 75 lakh term plan though he has no dependants or liabilities yet. Harshinder, on the other hand, has not bought any cover. “Since I am single and don’t have any dependants or debt, I didn’t think I needed any life cover,” she says.

Health insuranceThe broader categorisation includes the basic indemnity plan, which covers hospitalisation expenses, for an individual, and the family floater plan, which includes your entire family in a single cover. “Growing incidence of lifestyle diseases and rising medical costs make it essential to have a health insurance,” says Ashish Mehrotra, CEO & MD, Max Bupa Health Insurance. “Also, a health plan provided by an employer may not be enough to hedge one against the rising cost of healthcare services,” says Jacob.

You should have Rs 3-5 lakh basic health plan at this stage, depending on whether you stay in a metro or a tier II/III city. So if your company insures you for Rs 2 lakh, buy an independent top-up plan for Rs 3 lakh as it will be cheaper than a regular policy. Consider a family floater plan only when you are married and have kids; don’t include your parents because the premium is determined by the age of the oldest member. Also, don’t just consider low premium as a criterion. Look at the claim settlement ratio, hospital network, inclusions and benefits before buying a plan.

Critical illness plan“This provides a lump-sum benefit in case of certain pre-decided ailments and pays the costs associated with longterm care and loss of income due to prolonged recovery period,” says Jacob. It is available both as a standalone policy or as an add-on with life and health insurance. Typically a standalone plan will offer a higher cover and more flexibility. You can avoid buying it at this stage, but consider it in your 30s given the higher incidence of such diseases at lower ages.

Accident disability plansThis is a plan you should buy when you start working because of the sheer unpredictability of life. It covers you against mishaps that can result in complete or temporary loss of income due to partial or total disability. Buy a cover for Rs 20-25 lakh or one in accordance with your income and nature of job.

Home contents planThough you are unlikely to have a house at this stage, buy a policy for the contents if you are in another city, not with your parents. The premium for a Rs 5 lakh cover can be Rs 3,000 and will cover jewellery, home appliances, furniture, etc, against theft, fire and natural disasters.

Take-off troubles1. Has no budget.2. Has no equity investment except in the NPS.3. High investment in tax inefficient fixed deposits.

6. IMPROVE YOUR SALARY STRUCTUREYou may have had the best package in campus placement, but the salary would still seem less compared to that of your seniors at work. This is something beyond your control. What is in your hands is making the most of what the company is offering you.

The government does not recognise the concept of CTC in computing for statutory heads, such as Employee Provident Fund (EPF), Employees’ State Insurance, gratuity and bonus, where the rules prescribe minimum contributions, there are no set rules on structuring the CTC. The salary break-up is mostly the company’s prerogative. There are broad norms, such as the basic pay being 30-40% of the salary, and house rent allowance (HRA) and other retiral benefits like the EPF being a percentage of the basic. However, these too are not written in stone.

Moreover, what constitutes the CTC will vary from company to company. All CTC structures include three main components—basic, retiral benefits, allowances and reimbursements. Other components vary. Companies may or may not include variable payouts, such as performance bonus and gratuity in the ‘total target remuneration’.

Also, benefits given in kind, for in-wages. This means that except stance, house, furniture and car, are sometimes part of the total pay. Some companies even include premium paid for group benefits such as health and accident insurance in your CTC. So, unless you see the salary break-up and do the math, you cannot be sure about what you’ll get in hand.

You need to make sure that you are not losing out because of lazy salary structuring by some HR personnel. So customise your CTC according to your needs.

Restructure the basic payThe basic, probably the chunk of your salary, includes basic pay, HRA and often dearness (DA) and special allowance. Apart from HRA, every component is fully taxable. An easy way to reduce tax liability is to cut basic pay and adjust it as perks or long-term benefits. If you have a special allowance component, adjust it as a tax-free component.

However, you need to weigh the pros and cons before tinkering with your basic. Your HRA (usually, 40-50% of the basic) and EPF (12% of the basic) are directly linked to the basic. Also, if you want to apply for, say, a car or home loan in the short term, you may not want the basic pay to be too low.

A higher basic would mean a higher HRA, DA and provident fund contributions. The DA will be taxable and the PF contributions are tax-free, but it will reduce your take-home salary. On the other hand, reducing the basic pay will mean a lower contribution towards retiral benefits, which may not be good in the long run. Also, if you live in a rented house, recalculate your tax benefits on HRA before lowering the basic.

The idea, is to have an HRA as close to the actual rent you pay, which should ideally be a figure close to the HRA you receive plus 10% of you basic (see HRA calculations). Choose one of the following two ways to restructure the salary with maximum tax benefits.

Increase in-hand salaryBenefits such as leave travel allowance (LTA), medical and conveyance allowances serve two purposes. One, they increase the net takehome salary. Two, they make the salary structure more tax-efficient. However, the limitation is that there are caps on most of these perks. For instance, you can claim up to a maximum of Rs 15,000 every year for medical reimbursements, Rs 26,400 for food coupons, Rs 5,000 as annual gifts and Rs 19,200 as travel allowance on a yearly basis.

Also, keep in mind that you will have to produce original bills and receipts to claim some of these expenses. So, make sure they are within the claimable limit. Take advantage of perquisites if you are planning to buy a car or join a professional course while working. Rather than taking a loan, if your employer funds the expense and includes it as a part of your CTC, your tax outgo can reduce significantly.

This is because you are taxed only on the perk value. For instance, if you plan to buy a Rs 6 lakh car on loan, you will have to pay roughly a monthly EMI of Rs 13,000 for five years, which will be a post-tax expense. The tax outgo over five years on Rs 7.8 lakh will be slightly more than Rs 2 lakh.

However, if the company shows it as a perk, you are taxed only for the perk value of the car, which is between Rs 1,800 a month (for cars of up to 1600 cc) and Rs 2,400 a month (for cars bigger than 1600 cc). The only disadvantage is that, legally, you don’t own the car. But when you quit, you may request the company to allow you to buy the vehicle at depreciated cost.

This rule holds true for other big ticket expenses like laptop, gadgets, except in case of rented accomodation. When it comes to a ‘company leased house versus selfrented accommodation’, HRA wins. This is because rather than getting a tax-exemption for HRA, a prerequisite value (rent paid or 15% of the basic, whichever is lower) will get added to your taxable income, which would mean a higher tax bill.

Optimise long-term savingsIf you want to keep your basic intact but do not mind a slightly lesser take- home pay, reduce your allowance and increase your retiral benefits to reduce your tax liability. The employer’s contribution to PF is linked to your basic (12%) and unalterable. However, you can increase yours using the voluntary provident fund (VPF) route. VPF is even better than PPF because while both earn similar returns, PPF has a lock-in period of 15 years.

Your EPF contributions can be withdrawn without any tax implication after five years of service. If tax liability is not nil after exhausting the Section 80C investment limit of Rs 1.5 lakh, contribute towards NPS to claim an additional Rs 50,000 deduction under the new Section 80CCD (1b). “An employee’s contribution is also considered as a self-contribution and therefore eligible for deduction under Section 80CCD (1b). One can first maximise his claims under Section 80C and then claim any residual under the new section,” says Archit Gupta, founder and CEO, ClearTax.in. NPS, however, does not enjoy as high a liquidity as PF. Withdrawal is only allowed at retirement or under special circumstances.

Not all long-term benefits are tax-efficient, and you may want to get rid of a few as well. For instance, gratuity, another common long-term benefit is tax-free up to 15 days of basic pay or Rs 10 lakh, whichever is lesser. However, it is payable only after five years of service. So, it is redundant if you do not plan to stick around for so long. Although not a very big component, you should try and adjust the money under some other head.

Tax and tweaksA quick checklist of tax rules for major components and how to tweak them to get maximum benefits.

Investing the savingsIf you have an education loan running, paying it back should be your priority. You get a tax benefit under Section 80E for paying the interest back. Also, financial planners suggest prepaying a loan after the moratorium period rather than investing as there will be no prepayment charges. “If this your first job and your basic is higher than Rs 15,000, you may even consider opting out of the EPF and instead pay back the loan,” says Vaibhav Sankla, Director, H&R Block India.

“It is better better to pay back a loan where you are paying 12-13% interest than invest in an instrument that fetches you 8.7% returns,” he adds. Prepaying in the earlier years is a tax-efficient strategy as well, when the interest component is higher. This is because there is no cap on how much you can claim under Section 80E. However, you have a time limit of eight years to claim this benefit.

Another benefit that people living with family miss on is HRA. Even if you are living with parents, you can claim a deduction for house rent, provided your parents own the house. They will be taxed on this, but can claim a flat 30% of the annual rent as deduction for maintenance expenses such as repairs, insurance, etc., irrespective of the actual incurred expenditure. So, if you pay Rs 12,000 a month, your parents will have to pay tax on only Rs 1 lakh. Even if this earning is above the the basic Rs 2.5 lakh exempt limit (Rs 3 lakh if they are above 60 and up to Rs 5 lakh if above 80 years of age), you can make it tax-free.

1. If HRA = Rent paid (Rs 12,000), the maximum deduction you can claim is Rs 9,600 (rent paid less 10% of basic). So, you pay tax on Rs 2,400.

2. If HRA > Rent paid (Rs 10,000), the maximum deduction you can claim is Rs 7,600 (rent paid less 10% of basic). Here, the tax liability is even higher. You pay tax on Rs 4,400.

3. If HRA< Rent paid (Rs 15,000), the maximum deduction you can claim is Rs 12,000 (actual HRA). Here you are paying a higher rent (Rs 3,000) than actual HRA and therefore losing on tax benefits.

4. If HRA < Rent paid (HRA+10% of basic= Rs 14,400), the maximum deduction you can claim is Rs 12,000 (actual HRA). This is ideal.

**How young earners can grow their salary with their career**

7. SAVE FOR AN EMERGENCYCaught in the thrill of making money, the urgency to buy things and eagerness to save for bigger goals like a house and a car, the new earners typically forget the preparation for financial emergencies. Be it the sudden loss of job, medical eventuality or sudden financial support required by a family member, you will need to be ready for contingencies.

So the first thing to do, even before you start saving for smaller, short-term goals, is to build an emergency corpus. This should be equal to 3-6 months of your household expenses, and should also include any loan repayments and insurance premium obligations. This amount should be invested in such an avenue that it is easily accessible and is not subject to market fluctuations.

“The best option is to put it in a short-term debt fund, liquid fund or a sweep-in bank account. This will ensure easy availability and higher rate of interest for your money,” says Maalde.

Some people also prefer to use credit cards to tide over financial emergencies, but remember that these are useful only if you restrict the credit to one month. Otherwise, the cost of loan will be prohibitively high and defeat the purpose. So, before you go on a spending spree with your pay cheque, save the amount for a rainy day.

Saugata Palit, 24 years, DelhiDesignation: Senior executiveStarted work at 23 years

8. AVOID DEBT TRAPSYou are probably the most vulnerable when it comes to debt traps as you start working. With few responsibilities and the new-found power of money and credit card, it’s difficult to curb the consumerist urges. As Pai says, “You should understand the difference between needs, wants and greed.” Credit card is not the only path to debt hell. Here are the various ways you can plunge into liabilities when you start working:

If you roll over credit card dues“When I started earning, I had a card with a limit of Rs 40,000, but I got so carried away that once I spent Rs 45,000 in a month. That was a wake-up call. I repaid the amount and stopped using the credit card,” says Palit. He hasn’t carried out a single credit card transaction in the past six months.

Nayyar, on the other hand, has avoided this situation with discipline and smart usage. “I use a mix of credit and debit cards. The credit card is used only to earn and redeem points,” says Nayyar. He also makes sure to pay the entire bill every month and has never rolled over the due amount.

This is a cardinal rule for credit card usage. Do not roll over the due amount and repay in full because the cards charge a very high interest of nearly 3% a month. So if you get a bill of Rs 10,000 and pay only the minimum due amount of 5%, you will have to pay an extra Rs 21,978 after a year. “Fix a spending limit for yourself, say, 20% of your income. But if you can’t discipline yourself, use a debit card,” advises Jhaveri.

“There are so many lucrative offers on cards that people don’t think twice about taking these up. Avoid buying expensive gadgets on loan even if these comes with 0% interest offers. These will add up and impact your other investments,” says Iyer.

If you take too many loansThe easy option of buying on credit can be your downfall if you do not set limits. Taking a personal loan while running loans for a car and a home can strain your finances, making it difficult to invest or save. As a rule, do not spend more than 40-45% of your income on loan repayments. Of this, 25-35% should be for home loan repayment and the rest for other forms of debt, including car and credit card loan.

If you take personal loan for spendingGiven the ease of securing a personal loan with pre-approved amounts, it is easy to give in to the urge. Know that personal loan is one of the most expensive forms of loan after credit cards and charges 20-24% interest per annum. Avoid these at all cost.

If you buy a house with high EMIBuying a house is a dream for most new earners, but consider several factors before taking the big decision. “Know the difference between fixed and floating rate loans and understand how EMIs are calculated,” says Pai.

Understand that the EMIs for a home loan are big and a long-term commitment. So you need to be sure of your earning capacity on a sustained basis, otherwise it will turn into a liability that will impact all your other goals.

If you sign on as a guarantor for a loanWhen you are single and employed and have friends you can’t refuse, you can be an easy target for a debt trap. If you sign on as a guarantor for a friend’s loan, understand that if he cannot repay the loan, you will be asked to do so. The guarantee amount will show as outstanding liability in your credit card and affect your loan eligibility. So think twice before agreeing to such an arrangement.

If you don’t budgetIf you fail to keep track of your expenses on a monthly basis, there is a good chance that you will run out of funds before the month ends. You may then have to consider loans to fulfil your needs.